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FRM Part II · FRM Exam Part II · Private Markets Investing

An investor is concerned that private credit fund valuations understate risk during stress. Which practice best addresses the problem of smoothed, model-based marks on direct loans?

The best practice is independent valuation review with stress testing of marks against observable public credit spreads. Private loan marks are model-based and lag markets, which smooths returns and understates risk, so external challenge and benchmarking reveal stale valuations that reported NAV alone would hide.

  1. AIndependent valuation review combined with stress testing of marks against public credit market spreadsCorrect
  2. BRelying on the manager's quarterly reported net asset value alone
  3. CUsing the loan's original par value until default occurs
  4. DReplacing credit analysis with the fund's historical volatility

Explanation

Marks on illiquid loans are model-based and lag markets, so volatility and correlation appear understated. Independent review and benchmarking against public spreads helps detect stale marks. Par-value carrying and reliance on reported NAV preserve the bias.

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